February 22, 2012

Carbon Copy

Two days after Congress passed its extension of the payroll tax cut through the rest of 2012, The Washington Post sounded a page-one alarm about the “Taxmageddon” that looms when the measure expires next year. Starting then, the current 10.4 percent payroll tax will rise to its usual 12.4 percent. At the same time, the Bush-era income tax cuts will expire, raising the top marginal rate from 35 percent to the Clinton-era 39.6 percent (and possibly, if Congress refuses to cut a deal with President Obama, raising taxes on the middle class, too). A little-known Medicare tax increase for high earners, instituted to help pay for Obamacare, is also due to kick in. The combined result, the Post’s Lori Montgomery warned, will be “one of the biggest tax increases in U.S. history.”

This is an utterly phony crisis. Assuming the recovery gathers strength, raising taxes next year to lower the deficit will be an absolute necessity. But there is one fairness problem: The payroll tax increase will fall disproportionately on people with lower incomes. Indeed, the tax, which funds Social Security, is almost criminally regressive, with a flat rate and a ceiling (currently $110,100) above which no tax is paid.

Raising the payroll tax next year is such an unappealing option that many people are convinced it won’t happen. “We all know what happens to time-limited tax breaks in Washington,” wrote Howard Gleckman, a resident fellow at the Urban Institute, last November. “Like vampires, they never die.” But what if we decided, just this once, not to fight the temptation to let a “temporary” tax break become permanent? And what if we made up the revenue by imposing a carbon tax instead?

During his first year in office, Obama pushed (unsuccessfully) for a bill to cap carbon emissions and let polluters buy and sell a limited quantity of allowances. Throughout that debate, many economists argued that taxing carbon would be a much simpler way to achieve the same outcome. A surprising number of conservatives support a carbon tax, including Gregory Mankiw, a Mitt Romney adviser who was chairman of the Council of Economic Advisers under George W. Bush, and Martin Feldstein, who chaired the council under Ronald Reagan. In 2009, GOP Representatives Bob Inglis and Jeff Flake introduced a bill to create a carbon tax and use the proceeds to reduce the payroll tax. They called it the “Raise Wages, Cut Carbon Act.” The supply-side guru Arthur Laffer liked the idea, too, even though it originated with Al Gore. (Gore proposed it 20 years ago in his book Earth in the Balance; when Bill Clinton chose him shortly thereafter to be his running mate, Republicans pilloried Gore for promoting such a crackpot notion.)

Granted, Republicans have an irritating habit of favoring bold market-oriented policy solutions right up until the moment that Democrats show interest in them, at which point they denounce these same policies as rank Bolshevism. Plus, there remain a fair number of climate change denialists within the GOP, and Americans for Prosperity, a group funded by the Koch brothers, has a “No Climate Tax Pledge” it urges candidates to sign. So let’s not kid ourselves that a carbon tax would glide through Congress on a pink cloud of bipartisan cooperation. But, to whatever extent Republicans switched sides for nakedly partisan reasons, it would help Democrats make the case, yet again, that the GOP isn’t remotely fit to govern.

Most carbon tax proposals envision an initial tax rate of $15 per ton of carbon dioxide. The carbon tax is meant not to raise revenue but to change behavior: The ultimate goal is to have polluters avoid paying the tax by shifting to renewables. Nonetheless, Tufts economist Gilbert Metcalf, in a 2007 paper, calculated that a $15 carbon tax would raise about $82.5 billion per year, which would easily cover the $70 billion cost of extending the payroll tax cut through 2013. To maintain pressure on polluters to keep reducing carbon emissions, the carbon tax would have to rise steadily. Inglis and Flake’s bill would raise it to $53 in its twentieth year, which is about what’s envisioned in a report by Robert Shapiro, Nam Pham, and Arun Malik of the private U.S. Climate Task Force. The task force calculated that the revenues could keep the Social Security tax a little below its current lowered rate and still leave 10 percent of the money to pay for other programs to fight climate change. Alternatively, you could use this money to provide even greater payroll tax relief for people at lower incomes.

(You may note that I exclude from this discussion the Medicare portion of the payroll tax, which Obama didn’t lower. That’s because it’s more equitable. Unlike the Social Security tax it has no income ceiling, and, although the rate is currently a pancake-flat 2.9 percent, starting next year it will rise to 3.8 percent on family incomes above $250,000. These wealthier families will also, for the first time, pay a 3.8 percent tax on investment income.)

Granted, the carbon tax is a flat tax and therefore not progressive. But it’s not as regressive as the Social Security tax. It has no ceiling, and, while it would certainly hit people at lower incomes, it would hit people at higher incomes more. “Poor people don’t own four cars,” says Elaine Kamarck, a lecturer at Harvard’s Kennedy School who formerly worked for Gore and advocates using a carbon tax to lower the payroll tax. Wealthier people fly more, too, and use more electricity. Lower-income people need fossil fuels to drive their cars and heat their homes, and a carbon tax would raise the prices not only of those commodities but of goods and services throughout the economy. But that could be addressed by using carbon tax revenues to concentrate payroll tax relief on lower-income families and to increase Social Security benefits for lower-income retirees. Another potential problem with the carbon tax is that, if other countries didn’t adopt it, U.S. exports would become less price-competitive. But that could be tweaked with exemptions or import fees or diplomacy. Globally, a U.S. carbon tax won’t make much difference anyway unless we lean on other countries to take similar action.

Ultimate success for a carbon tax would mean so complete a shift to renewable energy that the tax would stop raising much revenue at all. At that point we’d need to bring the payroll tax back. But that would give us an opportunity to make it progressive. In the meantime, we’d have solved our global warming problem: more than a good day’s work.

Timothy Noah is a senior editor at The New Republic. This article appeared in the March 15, 2012 issue of the magazine.